STEP 1:
Strong earnings/sales
in top
industry
groups
Every
stock represents a company. A company with employees, staff and a
service or product they are selling. A great company is based on its
strength and soundness which can determined by looking at its earnings
and sales that it posts each quarter. You should look for the annual
earnings in the last 2 years that are up 25% or more. And have the most
recent sales and earnings accelerating in the last few quarters. The
last quarterly earnings and sales should be up at least 25% or more.
Pick stocks whose management has some ownership of the stock of at
least 5% to 10%. The return on equity is an indicator of the financial
performance of the stock and you want it to be 15% or higher (you can
find this in a company's SEC filings, including its 10-Q, 10-K and
annual reports).
Just
as we can know a person by the friends he or she keeps, similarly, a
stock is known by the industry group it belongs to. Stocks tend to move
in groups and about 45% of its price movement is connected with the
industry group its in. You want a stock breaking out of a sound base,
but also you wants its group to be moving higher. This gives it that
extra boost. If you have a stock breaking out of a sound base but its
industry group is going down, there is a good chance your the stock
will follow. Lastly, you want stock in the top 20% of the industry
groups out there and number # 1 in its specific group.
STEP 2:
with a sound
base
Looking
for sound bases refers to the technical analysis component of this
investment method. Charts give you the price and volume action of a
stock on a daily, weekly, or monthly basis. Charts are great because
they show you the committed decisions of the investors out there in the
marketplace and can reveal future trends and patterns.
There
are THREE sound bases to look for:
a.)
Flat Base:
You want a minimum of 5 weeks for the formation of type of base. You
want the trading range to be 10%-15% from the highest point to the
lowest. You don't want huge price fluctuations beyond this range
because it can add to the stock's volatility and give tepid breakouts.
It should be a tight trading range with decreased volume close to the
break out point. An example could be a stock that trades between $30 to
$33 over a minimum 5 week period and then shows volume dry up.
b.)
Cup and Handle:
You want a minimum of 7 weeks for the formation of this type of base
from the left side peak of the cup to the breakout at the handle. There
should be about a 2 week formation on the downward side of the cup and
a minimum 1 week formation on the upward side of the cup toward the
handle. Also there should be spikes in volume that coincide with
increased price during the cup formation. This lets us know that the
institutions are supporting the stock. You want the volume to generally
be increasing as the upward side of the cup is forming. The peak of the
right side of the cup should be at the upper half of the cup overall.
The right side peak of the cup should be about 10%-15% lower than the
left side peak of the cup. During the handle formation, you want the
price to drift downward no more than 15% -20% from the peak of the left
side of the handle. You want volume dry up during this process. The
volume dry up means that the last of the weak shareholders have left
and now the stock has room to move up in price without too much
hindrance.
c.)Double Bottom Base:
You
want a minimum of 7 weeks for the formation from the very left peak of
the W to the breakout at the handle. You want the very left peak of the
W higher than the middle peak of the W. Additionally, you want the left
bottom of the W higher than the right bottom of the W. During the first
bottom of the W you want a 20% to 50% decrease in price from the very
top left peak with volume dry up. From the first bottom to the middle
top of the W, you want to see spikes of volume increase to show that
the institutions are stepping in to support the stock. During the
second bottom, you want volume dry up in a tight trading range. From
the second bottom to the very right peak of the W, you want to see if
the 2 V's in this W are close together and steep. During the formation
of the handle, you want the price to drift downward in a tight trading
range. You want the handle to form in the upper half of the 2 cups or
V's. Lastly, you want volume dry up so we know the last of the weak
shareholders have left giving the stock room to go up in price.
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